Credit, Volatility Rolls Through Chinese Markets

From the EO print edition, February 23, 2009
Translated by Tang Tang
Original article: [Chinese]

After the Spring Festival vacation drew to a close, Liu Jun did not return to work. Instead, the Shanghai investment fund executive visited the Pearl River Delta in Southern China. He wanted to feel the rhythm of the Chinese economy personally.

His trip convinced him that it would take longer for the economy to recover than he previously thought. Back at work, his firm looked into the health of the banking, manufacturing, and electric power industries. Ultimately, they decided to withdraw some investments.

Liu cited two other reasons for his prudence: the stock indexes had spiked more than expected; and the market trade volume--unsupported by fundamentals--would not last long.

Liu was not alone. On February 17 and 18, as China's A-share index plunged by 180 points, cut loose as many fund companies in Beijing and Shanghai scaled back their stock positions.

Meanwhile, Eastern European countries' and Russian foreign debt showed risk of default. And in the US, the Dow has hit a six-years low.

All would have a cooling effect on the simmering A-share market.

Since February, 1.6 trillion yuan in new loans, released as part of a broad government-backed stimulus measure, have primed China's stock markets, pumping average daily volume past 200 billion yuan with a 4% turnover rate. At one point in the stock bonanza there was even consensus that the A-share market had emerged from the recession completely, with the Shanghai-Shenzhen 300 Index close to 2,400.

"The rise was bolstered by liquidity and the policy push, but it was uncertain how much of the 1.6 trillion yuan in loans have actually found their way into the real economy. We need to be cautious," said one source from a large Beijing-based fund, just one day before the A-market reached 2,400 points.

Analysts at Shenyin and Wanguo said that in January alone, 660 billion yuan in credit capital did not flow into the real economy. An estimated 90.4 billion commercial paper financing came into the stock market since January, according to Guotai Junan securities.

Then, during February 17 and 18, the A market declined by 180 points. Aside from funds withdrawing from the markets, there was another force at work: Some Chinese companies who had borrowed cash against their receivables and invested in the stock market were also selling-off shares.

There seemed to be a consensus among fund managers that the market would benefit from a credit capital level of 0.5 or 0.6 trillion yuan during February and March. But news that new loans declined sharply in the first ten days of February had put them on guard. The last week of data for February would be vital.

Worries at home were aggravated not by conditions in the US, which many market observers felt has already touched bottom, but by Eastern Europe.

"Although we are comparatively optimistic about the domestic market, we are indeed concerned about Eastern Europe and Russia. Should a country default, the consequences would be more severe than last year's Lehman's bankruptcy. The slumping foreign environment would undermine domestic confidence and decrease exports," said an analyst from Southern Fund.

One optimistic fund manager thought the current cuts in positions were normal and the annual performance would still rise as long as policy was be constant.

Other optimistic fund managers thought that the market's attention would soon divert to government investing, certain favorably looked-upon industries, and individual stocks, at which point the current trend would end.

Some fund managers held similar view, market focus would divert to government investing as well as some industries and individual stocks with high certainty, the current trends would end when the focus was transferred to individual stocks. The optimistic expectation awaited confirmation.

A review of market performance since 1998 showed that usually the market would rise and fall sharply before and after the two top legislative conferences in March. During the meetings, however, investors seemed to maintain careful trading attitudes, with the index stable